Fraudulent Accounting
The Financial Services Commission and the Financial Supervisory Service of South Korea will strengthen the measures to prevent a large-scale accounting fraud by dealing with a deep-rooted dominant-subordinate relationship between large corporations and accounting firms. In South Korea, the former pays the latter for external audit and this practice has hindered the improvement of accounting transparency for long.
The two organizations discussed the issue for five months and recently came up with a solution in the form of expanded auditor designation. The idea is to have auditors designated for a larger number of corporations, which is expected to result in less private talks and less unreasonable demands between the two sides.
Specifically, each of listed companies that previously received a severe punishment for fraudulent accounting or have an executive previously punished for embezzlement or breach of trust and companies involved in unfaithful disclosure has to choose one accounting firm and provide notification down the road. Subsidiaries of conglomerates, financial companies and listed companies in certain industries such as construction and shipbuilding, in the meantime, have to choose one from three suggested by the financial authorities. Foreign limited liability companies such as Apple Korea, Google Korea and Chanel Korea can be subject to the multiple-choice scheme once an amendment to the External Audit Act is passed to include them in external audit targets.
Companies listed on foreign stock exchanges that require a high level of accounting transparency are to be exempt from the multiple-choice scheme though. According to the Financial Services Commission, the number of listed companies to be subject to either one of the two forms is estimated at 50% with a total of 1,958 companies listed as of the end of last year and the cycle of audit reviews is expected to be shortened from 25 years to 10 years.
At the same time, the authorities are planning to block accounting firms failing to meet certain requirements from auditing listed companies. This registration system, which is similar to that the Public Company Accounting Oversight Board of the United States adopted in 2002 and is scheduled to be resumed after a hiatus of six years, is to drive less-qualified accounting firms out of the market. The Financial Services Commission is going to apply the auditor registration system to financial companies and large unlisted companies as well.
The services accounting firms are allowed to provide for their clients are slated to be reduced, examples of which include valuation for purchase purposes and brokerage related to financing and investment. The same rule is applied to not only companies to be audited but also their subsidiaries. Detailed description of key audit matters in audit reports is applied to listed companies in 2019 and then the others later. The fine and penalty imposed on corporations and accounting firms engaged in fraudulent accounting are adjusted from up to two billion won to unlimited and to 300% or less of illegal gains or up to 10 years in prison.
The authorities determined nothing on standard audit fees at this time in spite of a strong request from the accounting community. “The fee of mandatory external audit applied to listed companies and large unlisted companies is not something to be determined by the government,” they explained, adding, “Instead, the fees should be determined through voluntary negotiations in the accounting industry itself.”